On 30 June 2022, the Council of the European Union and the EU Parliament agreed on the draft regulation proposed by the EU Commission on distortive foreign subsidies. Based on this agreement, the new regulation could already enter into force this year. Due to the introduction of a new mandatory screening mechanism, the regulation will have a considerable impact on transaction practice in M&A processes and in procurement procedures.

Foreign subsidies not screened to date

The European market is the primary destination of foreign direct investment worldwide. It is estimated that around 100,000 EU-based companies are already owned by foreign investors. In many cases, these companies receive state support from outside the Union (so-called "foreign subsidies"). While the granting of state subsidies by EU member states is regulated by state aid law, foreign states have so far been able to support EU-based companies without any specific control under competition law.

The procedures already in place in many member states for screening foreign direct investment ("investment screening procedures") also provide, on the basis of the EU Screening Regulation, for the monitoring and, where necessary, restriction of the state financing of corporate acquisitions. However, the exclusive purpose of the investment screening procedures is to protect public security and they do not provide member states with any means of taking action if competition is distorted on the internal market through foreign subsidies.

The EU Commission assumes that third-country subsidies have had a distorting effect on the EU's internal market in several cases in recent years and have led to unfair competitive conditions. For example, foreign subsidies have facilitated the acquisition of EU companies, influenced investment decisions, distorted trade in services, or otherwise influenced the conduct of their recipients on the EU market. Conceivable forms of such support include interest-free loans, unlimited state guarantees, tax exemptions or reductions with respect to third-country investments, or earmarked state funding.

New screening mechanism for foreign subsidies in future 

The new regulation on foreign subsidies aims to close this gap and ensure equal opportunities for EU-based companies. To this end, a new screening mechanism is being introduced that will enable the EU Commission to check for any potentially competition-distorting influence of foreign subsidies and, where necessary, to decide on compensatory measures.

The control mechanism encompasses notification obligations in M&A transactions and procurement procedures as well as the Commission's right of ex officio investigation:

  • In the future, acquisitions, mergers and the formation of joint ventures will (also) have to be notified to the Commission prior to their execution if the target company, one of the acquiring companies or the joint venture to be formed has generated sales of more than EUR 500 million and the financial contributions from third countries have exceeded EUR 50 million over the three preceding years.
  • In public procurement procedures with a contract value of more than EUR 250 million, companies will in future have to report all third-country financial contributions they have received in the last three years.

Outside the scope of notifiable transactions, the Commission may also examine ex officio whether a foreign subsidy leads to a distortion of competition. The screening mechanism allows for a review of subsidies granted up to five years prior to the Regulation's entry into force.

The Commission then weighs the negative effects of a foreign subsidy in terms of the distortion of the internal market against the positive effects of the subsidy on the development of the economic activity concerned. If the Commission concludes that the negative impacts outweigh the positive impacts, it orders mitigating measures. Possible measures include

  • Obligations to grant fair and non-discriminatory access conditions for certain infrastructures,
  • Reduction in the capacity or market presence of the companies involved,
  • Waiver of certain investments,
  • Licensing at fair, reasonable, and non-discriminatory terms and conditions for assets that were acquired or developed with the help of third-country subsidies,
  • Publication of the results of research and development or
  • Disposal of certain assets.

In certain cases, the Commission may also even order the rewinding of a M&A transaction and the repayment of the foreign subsidy, including reasonable interest.

Practical implications

In the future, the Commission's screening of third-country subsidies will become a new standard instrument for major M&A transactions and procurement procedures alongside the antitrust and investment screening procedures. In view of the considerable threat of fines of up to 10% of global annual sales in the event of intentional or negligent failure to notify, companies from third countries will in future have to very closely examine subsidies received by them in the last five years so as to be correspondingly prepared in possible M&A transactions and procurement procedures.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.